Who is a Minister for Federal Tax Purposes?

Introduction

Many federal tax laws have unique application to ministers. Some laws, such as the housing allowance, provide special tax benefits to ministers. Others have an impact, good and bad, on how a minister pays his or her taxes. The Internal Revenue Service has supplied its own definition of who is a minister and who is not for tax purposes. All ministers must decide if they qualify to be a minister according to the definition in order to determine and pay federal income taxes. This page addresses this issue. The Primary Summary provides a  review of the key points.

Primary Summary

"Ministers" may be eligible for the following 5  tax rules with respect to services they perform in their ministry: the housing allowance; parsonage exclusion; exemption from social security (if several conditions are met); self-employed status, Social Security (if not exempt); & exemption from income tax withholding. To decide if a person is a "minister" for federal tax purposes,  five factors will be considered: (1) the minister must be ordained, commissioned, or licensed; (2) whether he is involved in the administration of sacraments); (3) does he conduct religious worship; (4) does he have any management responsibilities in the local congregation (5) is he considered to be a religious leader by the congregation. The IRS and the courts loosely requires that a minister be ordained, commissioned, or licensed, and then they apply a "test" in regard to the relative importance of the other four factors. The more of them that a person satisfies, the more likely it is that he will be deemed to be a minister for tax reporting purposes.

Lesson

There are 5 unique tax rules that applicable to ministers:

(1) ministers who own their home don't pay federal taxes on the portion of their church compensation that is previously designated in a men's meeting as a housing allowance as long as the allowance is used to pay for housing expenses and doesn't exceed the annual rental value of a comparable home

(2) ministers do not pay federal income taxes on the annual rental value of a church owned home

(3) exemption from "self-employment taxes" (Social Security taxes paid by the self-employed) many requirements are in place that must be met

(4) self employed status for Social Security

(5) exemption of most wages from income tax withholding

Let’s illustrate the significance of this subject with an example. Assume that a church has a pulpit minister, an associate minister, an un-ordained youth minister, a business administrator, 3 office secretaries, and 2 janitors. How many of these should be eligible for a housing allowance? How many are treated as self-employed for Social Security and pay the self employment tax rather than social security? How many are exempt from Social Security  (assuming they meet all of the other conditions)? How many should be exempt from income tax? Which of these individuals are "ministers" for federal tax purposes?

Income tax regulations

All of these special tax rules  are available only to ordained, commissioned, or licensed ministers of a church involved in the exercise of ministry. This important terminology is defined in the income tax regulations as follows: "Service performed by a minister in the exercise of his ministry includes the ministration of sacerdotal functions and the conduct of religious worship, and the control, conduct, and maintenance of religious organizations . . . under the authority of a religious body constituting a church or church denomination. . . . Services performed by a minister in the control, conduct, and maintenance of a religious organization relates to directing, managing, or promoting the activities of such organization."

The five special rules above apply to persons who satisfy two requirements:

• they must be a minister, and

• they must be engaged in the exercise of ministry

Court rulings

The leading case defining the term "minister" is a 1989 Tax Court case. Knight v. Commissioner, 92 T.C. 199 (1989). The court announced a new test for determining whether or not a particular individual is a minister. Under this test, the following 5 factors must be considered in deciding whether or not a person is a minister for federal tax reporting purposes:

(1) does the individual administer the "sacraments",

(2) does the individual conduct worship services,

(3) does the individual perform services in the "control, conduct, or maintenance of a religious organization" under the authority of a church or religious denomination,

(4) is the individual "ordained, commissioned, or licensed,"

(5) is the individual considered to be a spiritual leader by his or her religious body? Only the fourth factor is required in all cases (the individual must be ordained, commissioned, or licensed).

The remaining 4 factors may not be necessary for a person to be considered a minister for tax purposes. The court didn't say how many of the remaining factors must be met. It merely stated that "failure to meet one or more of these factors must be weighed . . . in each case." The court concluded that the taxpayer in this case was indeed a minister despite the fact he only satisfied 3 of the 5 factors.

It may be assumed, however, that persons who claim to be "ministers" solely on the basis of the 3 factors mentioned in this case may not be deemed ministers by the IRS or the courts unless they can sufficiently demonstrate they are entitled to ministerial status because of other considerations. They may allege, after all, that if a church is ordains its bookkeeper and secretary, these persons could satisfy the final three factors in the Knight case (management responsibilities, ordination, and being a "religious leader"). There is no doubt the IRS and courts won't accept this conclusion.

IRS audit guidelines for ministers

In 1995 the IRS released audit guidelines to follow when auditing ministers. The guidelines cover many issues, including the defining the term "minister" for federal income tax purposes. The guidelines provide their agents with the following rules in defining the term "minister":

• The regulations require that an individual be a "duly ordained, commissioned, or licensed minister of a church."

• The Tax Court, in Salkov v. Commissioner, 46 T.C. 190 (1966), ruled that the phrase "duly ordained, commissioned, or licensed minister of a church" must be interpreted "disjunctively." By this it meant that a person qualifies as a minister for tax purposes if he meets any of these 3 categories. Ordained status, therefore, is not actually required.

• They also state "[t]he duties performed by the individual are also important to the initial determination whether he or she is a duly ordained, commissioned, or licensed minister. Because religious disciplines vary in their formal procedures for these designations, whether an individual is duly ordained, commissioned, or licensed depends on these facts and circumstances."

• The guidelines, in commenting on the Knight case, note:

The petitioner argued that he was not ordained a minister and couldn't administer church sacraments or participate in church management. Therefore, he couldn't be a minister subject to self-employment taxes. The court decided against this view, aster looking at all the facts. It concluded he was a licensed minister, it cited the fact he was licensed by the church, he did indeed conduct worship services, and was considered by the church to be a spiritual leader.

Other considerations

In deciding if a person is a minister tax purposes, there are a few additional things to ponder:

(1) ordained, licensed, or commissioned by one's employing church

Many churches have long ordained, licensed, or commissioned ministers. But in other cases, a local church may have only recently ordained, etc., a minister for the first time, usually to qualify the person for a housing allowance. It is not likely the IRS would recognize this person as a minister for tax purposes, especially if

(a) the charter or bylaws of the church do not specifically authorize such a practice;

(b) the person has no formal theological training;

(c) the church is affiliated with a denomination that ordains, licenses, or commissions ministers, and the denomination does not recognize the ministerial status of persons who are credentialed by local congregations; or

(d) the person's duties are not changed after being ordained, licensed, or commissioned. The Lawrence case (summarized above) should be reviewed in this context.

(2) "better off" for tax purposes

It is not necessarily true that a church worker will be "better off" for tax purposes by being deemed a minister. In many cases, a person  will pay more taxes after being ordained, licensed, or commissioned.

By becoming a minister, one will have the "benefit" of a housing allowance exclusion in computing his federal income taxes.

On the other hand, the Social Security tax rate increases from 7.65% (the employee’s share of FICA taxes) to 15.3% (the self-employment tax).

Whether or not he or she will be "better off" tax wise will depend upon whether the housing allowance exclusion offsets the higher Social Security taxes. For this reason, church workers shouldn't assume they automatically will be "better off" if their church ordains, commissions, or licenses them. In many cases, they won't.